Iran at risk of draconian response to rial slide

, October 4, 2012

By Una Galani

Iran's sliding rial puts the Islamic Republic in a bind. Increasingly isolated and facing the worst crisis since the fallout from the Iran-Iraq war, Tehran has limited short-term options to stem the panic over its sliding currency.

And due to its current predicament, it will be hard to launch badly-needed, longer-term reforms. So it may try to seek salvation in the traditional, self-defeating tricks of a command economy.

The government's official rate hasn't moved since January but the rial traded in the open market has lost around one-third of its value in the past week and two-thirds in little more than one year. The currency weakened with the sharp decline of oil exports, which are now at around half their level at the end of last year. The recent acceleration looks like the government's own doing.

The introduction of a "money exchange" centre was supposed to ease pressure by supplying importers with dollars. Instead it increased worries about the seriousness of the situation.

The botch has prompted fears that Iran is short on foreign exchange reserves. Data is poor and estimates vary. Iran had $106 billion of reserves at the end of last year, according to IMF estimates. Some analysts suggest it could now be anything between $50 and $100 billion

Either way, Iran looks stuck. The short-term options to deal with the currency slide are limited. Tehran can't inject dollars into the market, as it has done before. Bartering for an increased proportion of its reduced oil trade means that it is deprived of hard currency. Other measures, such as a crackdown on currency traders or big import curbs, could provoke both a sharp public backlash and even worse financial panic.

Iran's imports trebled to $70 billion in the seven years under President Ahmadinejad. That's a direct consequence of easing import controls to help fight inflation - officially estimated at around 25 percent.

The result has damaged a domestic economy that should, in any case, seek to diversify away from its oil dependence, which in turn would lessen its need to import foreign goods.

Given the difficulties of rebalancing even in good times, it's hard to see Iran's leadership succeeding now, or even trying. In the meantime it may be tempted to resort to the old tricks of taxing, rationing and controlling. - Reuters Breakingviews

* The author is a Reuters Breakingviews columnist. The opinions expressed are her own